Market should decide value of ratings

This is a response to “Proposals to reform credit-rating firms falling short,” an Other Views commentary in the Oct. 31 Pensions & Investments.

The strong market interest in sovereign ratings in recent months — particularly the ratings on the U.S. and European nations — demonstrates the importance that global credit markets place on credit ratings. Investors look to ratings as independent, forward-looking opinions of relative creditworthiness. Ratings can facilitate the process of issuing and purchasing bonds by providing an efficient, widely recognized and long-standing measure of relative credit risk across asset classes and markets.

Our ratings are available publicly for free, and we believe the marketwide scrutiny that results from such transparency is an important form of checks and balances on the quality of the ratings. While this attention to our sovereign ratings has included criticism from some corners, it has become evident that many who are critical of our sovereign ratings ignore their performance.

Studies have repeatedly confirmed that S&P's sovereign ratings have an excellent long-term track record. Since 1975, an average of 1.1% of investment-grade sovereigns have defaulted on their foreign currency debt within 15 years, compared with 29.7% of those in the non-investment grade category.

A study of sovereign ratings published in October 2010 by the International Monetary Fund found that credit-rating agencies provide a robust ranking of sovereign default risk — meaning defaults tend to cluster in the lowest rating grades — and noted that all sovereigns that have defaulted since 1975 had speculative-grade ratings at least one year before default. Our sovereign ratings, like those on corporations, banks and other sectors, are carried out according to criteria, policies and procedures designed to protect the rating process and the quality of the ratings.

Credit-rating agencies' activities are also regulated by authorities around the world. The stringent provisions of the Dodd-Frank Act, to cite one example, build on earlier regulation of credit-rating agencies in the U.S. Rulemaking is under way on multiple fronts to complete the implementation of the act; inspections, annual public reports and analyst training and testing are examples of its scope. This follows the comprehensive regulation of credit-rating agencies in the European Union, many of whose provisions S&P has decided to apply globally.

We believe that regulatory oversight of credit-rating agencies can play a role in strengthening the quality and transparency of ratings and in turn help safeguard strong track records like our own. Because of the global nature of the capital markets, we also believe that any regulatory framework needs to be globally consistent and built on a set of standards commonly accepted by the market and regulators internationally.

Furthermore, we support initiatives under way to reduce overdependence and “hardwiring” of ratings in the financial system by removing regulatory requirements that might trigger mechanistic reliance on ratings.

Beyond the actions to implement new regulations, we have also taken steps at our own initiative to further improve how we function. We have invested more than $200 million since 2009 to enhance our quality, criteria, compliance and risk management functions. We are committed to making further enhancements.

The strong market focus on sovereign ratings is evidence of the value that investors place on credit ratings. Ultimately it is also up to the market to determine which ratings are credible and useful. S&P has a strong, well-established track record of publishing quality rating opinions, and those ratings and our track record are available for anyone to view. We will continue to compete on the quality of our research and views, and believe the market — not government mandates — should decide the value of our work. n

Paul Coughlin is executive managing director of Standard & Poor's Ratings Services, New York.